Testing for Sources of Irreversible Consumer Demand

Abstract

The existence of irreversible demand is tested, whereby price increases induce a different absolute magnitude of quantity change than price decreases. Irreversibility is potentially likely in retail food settings for storable products that are consumed regularly and can affect pricing strategy performance. If irreversibility exists, the subsequent research question for storable product demand is whether loss aversion effects dominate stockpiling effects, or vice versa. A two-period theoretical model is developed, which predicts more elastic responses to downward price movements via stockpiling, but empirical tests on secondary data are needed to evaluate offsetting loss aversion effects. A variant of the Rotterdam demand model is developed to allow differential response to price increases and decreases. The model is applied to scanner data of short periodicity (weekly in this case), which are necessary to measure meaningful demand responses to food price changes. The products selected are U.S. cheeses and table spreads that are storable over multiple weeks. The results suggest that stockpiling dominates loss aversion. One potential cause of this behavior may be that marketers asymmetrically provide consumers with more reference price information when lowering prices, but not when raising prices. When stockpiling effects dominate, given the typically price-elastic store-level demand for food products, high-low pricing strategies should produce higher revenue. Regarding measurement of average demand response, reversible demand models applied to weekly data may overestimate own-price elasticities.

A behavioral economic account of rural household food consumption : evidence from underdeveloped areas in China

“…One specification, called the segmented price model, compared price elasticities of households facing a price increase with those facing a price decrease (Yan et al, 2016;Talukdar & Lindsey, 2013). The other specification, called the price increase and price decrease model, added the difference of logged market price and logged reference price in price increase and decrease situations in addition to the standard demand model (Putler, 1992;Maynard & Subramaniam, 2015). We applied a fixed-effects approach in double-log demand form with two different model specifications for each of the pure consumer sample, and the farmer sample separately.…”

“…Reverse loss aversion effects were also found for coffee when it was out of stock (Krishnamurthi et al, 1992), and for cheese, butter, and margarine, since these are foods that can keep fresh for several weeks which may trigger consumers' stockpiling behavior in situations of price decrease (Maynard & Subramaniam, 2015). The explanation they offered was that sellers provide consumers with more reference price information when lowering their prices, but not when raising prices.…”

“…People may perceive a price increase as a loss, and perceive price decrease as a gain, and react to them differently. Asymmetric price-effect studies often appear in the marketing literature on consumer choice models (Kalwani et al, 1990;Mayhew & Winer, 1992;Bell & Lattin, 2000), but are very limited in the economics literature for food demand research (exceptions are Putler, 1992;Maynard & Subramaniam, 2015). Ignoring the asymmetric demand pattern of consumers under the symmetric demand assumption in standard demand models may lead to misunderstanding of people's reaction to price changes and to biased estimation of price elasticities (Putler, 1992;Bijmolt et al, 2005).…”

“…Only a few studies incorporating asymmetric price effects into demand models were found, particularly with respect to food (Putler, 1992;Krishnamurthi et al, 1992;Maynard & Subramaniam, 2015;Talukdar & Lindsey, 2013;and Yan et al, 2016). In this section, we first review the general findings of loss aversion in food demand, then explain and compare different methods of modeling reference price in food demand analysis.…”

“…Putler (1992) was the first incorporating loss aversion theory into classical microeconomic demand theory, providing a theoretical basis for empirical demand analysis of modeling reference price effects. We found some studies focusing on asymmetric price effects, particularly on demand for food (Putler, 1992;Krishnamurthi, Mazumdar, & Raj, 1992;Maynard & Subramaniam, 2015;Talukdar & Lindsey, 2013;and Yan, Tian, Heravi, & Morgan, 2016).…”